Let's Get Real: Things Can Only Get Worse
Article featured in Nov 26 edition of The Edge; written by Manu Bhaskaran, Centennial Group Inc., an economics consultancy. Only selected paragraphs are applied here.
"As the list of victims of the subprime fiasco gets longer, many investors are comforting themselves that things, perhaps, are not all that bad, at least for Asia and somehow Asian markets would weather the storm. The reality is that Asian markets are very vulnerable and could well correct a lot more.
Has Asia really decoupled?
...with China increasingly displacing the US as the leading destination for the region's (Asia) exports. This has led to a feeling that Asian economies will be more insulated from the ill effects of a downturn in the US. But this is true only up to a point.
Research by a no. of agencies incl. the World Bank and Asian Development Bank has shown very clearly that the region still depends on the large developed economies of the US,Japan and the European Union for close to 2/3 of the ultimate demand for its exports. The reason is that much of what regional countries export to China are components or raw materials that are assembled into products, which are finally consumed by people in these big economies. So, Asian economies are better off than before but the insulation of intra-Asian trade is limited - certainly not enough to allow the decoupling that is so often spoken about.
Should we really rule out negative surprises in China?
Most people we speak to insist the Chinese leadership will simply not allow a crisis or serious shock in China before the Olympics. But is this assumption, that it's all smooth sailing until at least the Olympics is over, a sound one to make if you are an investor? Are governments so powerful that they can delay a slowdown or a crisis to a more convenient moment?
History tells us otherwise e.g. Mexico ha its Olympics coming out party in 1968 - yet it had a crisis just before that when a student rebellion was brutally crushed. South Korea too had its coming out party Olympics in 1988: it did not stop a political crisis from erupting several months earlier.
The Chinese themselves have benn warning that pressures are building up within their economy. Govt. forecasters have warned of dire consequences for China if the US economy enters a recession.
...Partly as a result, inflation has surged. Policy makers are responding with blunt instruments... The trouble is these measures cannot be calibrated finely...carry the risk of producing out-sized responses at unexpected points in time. In other words, the economy could slow a lot more than intended as more of these blunt policy tools are used.
Don't worry, the Fed will protect us.
Finally, investors seem to think that the Fed will focus on protecting growth more than preventing inflation and will, therefore, cut rates aggressively and early enough to prevent a sharp downturn in the US. After all, the Fed's rate cuts so far have triggered equity market recoveries and a huge surge of funds into emerging Asian markets. But it is now clear that the Fed under-estimated the scale of the housing and credit market debacles and may have kept rates high for too long. Rate cuts in Dec will only help boost the economy after 9-12 mths at least. By then, the continued fall in house prices and the worsening credit crunch would probably have kicked the US economy in the teeth. With credit problems now spreading from housing to credit cards and auto loans, we just have to face the fact that it's too late to save the US economy from a severe slowdown.
"As the list of victims of the subprime fiasco gets longer, many investors are comforting themselves that things, perhaps, are not all that bad, at least for Asia and somehow Asian markets would weather the storm. The reality is that Asian markets are very vulnerable and could well correct a lot more.
Has Asia really decoupled?
...with China increasingly displacing the US as the leading destination for the region's (Asia) exports. This has led to a feeling that Asian economies will be more insulated from the ill effects of a downturn in the US. But this is true only up to a point.
Research by a no. of agencies incl. the World Bank and Asian Development Bank has shown very clearly that the region still depends on the large developed economies of the US,Japan and the European Union for close to 2/3 of the ultimate demand for its exports. The reason is that much of what regional countries export to China are components or raw materials that are assembled into products, which are finally consumed by people in these big economies. So, Asian economies are better off than before but the insulation of intra-Asian trade is limited - certainly not enough to allow the decoupling that is so often spoken about.
Should we really rule out negative surprises in China?
Most people we speak to insist the Chinese leadership will simply not allow a crisis or serious shock in China before the Olympics. But is this assumption, that it's all smooth sailing until at least the Olympics is over, a sound one to make if you are an investor? Are governments so powerful that they can delay a slowdown or a crisis to a more convenient moment?
History tells us otherwise e.g. Mexico ha its Olympics coming out party in 1968 - yet it had a crisis just before that when a student rebellion was brutally crushed. South Korea too had its coming out party Olympics in 1988: it did not stop a political crisis from erupting several months earlier.
The Chinese themselves have benn warning that pressures are building up within their economy. Govt. forecasters have warned of dire consequences for China if the US economy enters a recession.
...Partly as a result, inflation has surged. Policy makers are responding with blunt instruments... The trouble is these measures cannot be calibrated finely...carry the risk of producing out-sized responses at unexpected points in time. In other words, the economy could slow a lot more than intended as more of these blunt policy tools are used.
Don't worry, the Fed will protect us.
Finally, investors seem to think that the Fed will focus on protecting growth more than preventing inflation and will, therefore, cut rates aggressively and early enough to prevent a sharp downturn in the US. After all, the Fed's rate cuts so far have triggered equity market recoveries and a huge surge of funds into emerging Asian markets. But it is now clear that the Fed under-estimated the scale of the housing and credit market debacles and may have kept rates high for too long. Rate cuts in Dec will only help boost the economy after 9-12 mths at least. By then, the continued fall in house prices and the worsening credit crunch would probably have kicked the US economy in the teeth. With credit problems now spreading from housing to credit cards and auto loans, we just have to face the fact that it's too late to save the US economy from a severe slowdown.
posted by Ming at 9:44 PM
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